Comments: A quarter given

The equities markets don't like it. FTSE is down nearly 3%. It may bounce back later in the day, but the markets seem to be saying 'this problem is very serious, and the Bank is behind the curve. We need to see much steeper rate cuts to off-set the effects of asset price deflation and credit rationing'.

We have a bear market in stocks (the market is pricing in a UK recession). House prices are falling, and the BTL sector in new-build inner city flats in particular is on the edge. Commercial property values are plummeting (Britsh Land write downs, and CP funds everywhere restricting redemptions). M3 growth is slowing. Input inflation and producer inflation is increasing. UK manufacturing is on the edge of recession (but who cares about that!). Financial services are under extreme pressure. Insolvencies and reposessions are trending upwards. Inflation expectations are elevated. The government deficit is out of control, and the ONS (according to the FT) has asked that the NR bail-out be put on balance sheet. Real unemployment (i.e. including the 'disabled' able and students taking toilet paper degrees, is at elevated levels already, and set to increase. Sterling is under pressure, is still holding up, but for how long?

The Bank is in a very tricky position, but is hanging on to its inflation fighting credentials, so hats off to the MPC. Personally I think that the Bank is going to cave in, and that we will see three more rate cuts by late summer. The cuts will be made at the same time that Prof King is writing a letter to the treasury, and they still wont do the trick. It's all very unpleasant.

Posted by T Gumbrell at February 7, 2008 02:06 PM

T Gumbrell,

I find it hard to take your comments seriously as they are so daily maily written...

For example, what do you mean by "Real unemployment (i.e. including the 'disabled' able and students taking toilet paper degrees, is at elevated levels" Elevated from what? Would you extend that to people doing pointless jobs?

Posted by Will at February 7, 2008 02:19 PM

Dear David,
Today's interest rate cut has to be judged in terms of the phase of the business cycle. Research suggests

that the impact of the interest rate on UK output is stronger when:
a) recent output growth has been strong, and
b) interest rates have been substantially increased in the recent past.
Both a) and b) fit the picture. In that sense, today's decision (together with December's decision) will be sufficient to help domestic growth without the need for further cuts in the (very) near future.

Posted by cmilas at February 7, 2008 04:56 PM

Thanks Costas, useful. T.Gumbrell, in my new spirit of beiong nice to all commenters, I'm not going to make too much of it, but haven't you just executed a rather spectacular U-turn? I thought you were one of those saying they shouldn't cut at all, now you say they're badly behind the curve.

As for the stock market, if we relied on it to tell us the state of the economy, it would be boom one day, bust the next. Today seems to reflect a bit of disappointment from some who had been wrongly persuaded there would be a bigger cut (perhaps by the Daily Mail and my friend Anatole) and partly gloom from Glaxo.

Posted by David Smith at February 7, 2008 05:23 PM

The market fell because the mood music behind this “quarter” was that this may well be all you’re getting; the narrative seems to be saying that faced with the prospect of stagflation the boe is of the view that they should tackle the flation first and the stag second. And experience and their statutory objective suggest that this is the right approach. Good call merv…

Posted by giles at February 7, 2008 08:55 PM

If that is the market's interpretation I don't think it is the right one, but we'll know more next Wednesday.

Posted by David Smith at February 7, 2008 10:26 PM

David - Your comments about what the equities market signal are of course correct. My comment about being behind the curve was an imagined comment made by an imaginary interlocutor (the market). Having said that, i do think that the Bank is behind the curve if the UK economy is to be reflated, and recession avoided. That doesn't mean that I think that the Bank should get on with it and reflate quickly, or even that I believe recession should be avoided.

It may seem like an odd way of looking at things, but I don't think that the business cycle can be endlessly defeated through demand management, and I am extremely skeptical about Mr Brown's 'no more boom and bust' approach to political economy (ditto the Fed's). I am concerned that the creation of unsustainable asset bubbles resulting from the reflations required to 'smooth' the cycle has engendered a situation in which much bigger problems may have to be faced in the future. It may be that we are dangerously close to that future becoming the present. I am thinking about deflation (Japan style) or (less worrying) stagflation. I think it would have better for the UK if the bull were taken by the horns many years ago. It wasn't, and now it will not be so easy to deal with the imbalances. We probably need a recession, some debt destruction, asset price deflation, and rebalancing. BUT, it isn't too hard to envisage things spiralling out of control given just how long this boom has gone on for and how much risk has been mispriced.

Also, I have a personal dislike of the social effects of exclusionary house price booms, and the development of an out-of-control credit culture in Britain - but that's not really economics.

I hope that Giles is correct in his interpretation of the Bank's agenda and the market's response.

Will - a report was released last week (by the government) with some alarming figures about the number of people on incapacity benefits. I think it is fairly common and accepted knowledge that the Government has encouraged people onto this form of benefit to keep them off the unemployed register. If the statistics were adjusted to take account of this piece of cynical social engineering, then we would find it much more difficult to be so sanguine about the unemployment rate in the UK. Aside from that, there is the issue of the government creating (again social engineering) an enormous client state of employees loyal to the government through its radical expansion of public expenditure. This is not real employment, in that it is paid for with borrowed money that can barely be afforded in conditions of economic prosperity and robust growth. Much of it is of course unproductive, and therefore diverts resources away from efficient usage. If there is a recession in the UK very difficult questions will be posed about the sustainabilty of this state funded employment (I doubt they will be answered though). That's basically what I was getting at.


Posted by Tom Gumbrell at February 7, 2008 10:30 PM

It is a question of degree, I think. There has been a cycle since 1992 but they have been milder than over the period 1973-92 when we saw three big recessions. The recent cycle has been more like the 1950s and 1960s. If you look at GDP rather than, say just the housing market, recent booms have been much less pronounced than in the early 1970s and late 1980s so there is much less of a need for the kind of bust that we endured during those times. More a need for the kind of below-trend growth we are now moving into.

Posted by David Smith at February 8, 2008 10:08 AM

Mr Gumbrell

On the 'real unemployment' front - economically effective unemployment requires people to be visible to employers as looking for work - or 'credible candidates' for jobs. That's what affects the wages offered by employers.

The alternative view is about unused human resources, and tends to get mostly put by unreconstructed keynesians and those further left. I'm not terribly sure I'd see your comments in that camp.

The IB issue affects both parties, and it was mostly under the Tories, who began to clamp down on it in 1995. However, pressures on other benefits trying to make people look for work (and harder) resulted in those who did have health problems finding the IB option (see Alan Manning's LSE paper). Labour began to look at it in the second term and try a few things after a first-term fright with wheelchairs outside Parliament. Serious action really began to take effect in 2005, since when IB and lone parent benefits have trended down. Not to say that 2.6 million claimants aren't an issue, but the trend is downwards now.

Posted by paulbiv at February 8, 2008 06:13 PM

Paulbiv - My remarks about the performance of the government re employment we're not meant to imply that the other lot would do better. I'm not at all party poitical in that way. The style and tone of your writting suggests to me that you usher from a bureaucratic environment where obfuscation and avoidance are the norm - Work for the labour party by any chance?

"Not to say that 2.6 million claimants aren't an issue, but the trend is downwards now." Ok.....that's alright then. phew.

Posted by Tom Gumbrell at February 9, 2008 11:24 AM